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Monday, 4 January 2010

The Panabantu Solution, Revisited

Bob Sichinga recently called for a mechanism to compel mining companies to keep proceeds from the sale of copper in local banks in order to "benefit the local economy" :

“Many of the investors and producers of copper are private companies and are maintaining the bank balances outside of this economy.....“They keep all the balances from the sales proceeds in overseas bank accounts...from an economic point of view, that money is no longer available to play a part in the Zambian economy...the issue of where these investors maintain their balances is a crucial thing which has to be addressed...which I have heard my friends at BoZ say it does not matter where the investors hold money. It does matter. And why would the country be wanting foreign exchange earnings if it doesn’t matter? At the moment, the money that comes from Vedanta Resources Plc sales of copper are not reflected as foreign reserves. So that is a lot of nonsense from my friends at Bank of Zambia. They are not being serious.”
This is not new of course - David Panabantu made a similar call here. The problem is that proponent of this idea have not adequately explained the trade-offs. Its strikes me that there are essentially two strong short / medium term impacts.

The immediate impact would be a stronger Kwacha. As previously noted, whilst this may have its benefits (reduces import costs for machinery, etc), it could have potentially significant negative effects on our export competitiveness. We might possibly have to kiss diversification good bye. Incidentally the MFEZs may also suffer if a stronger Kwacha led to higher labour costs. Then we have reduced purchasing power of aid inflows (conversely making it easier to pay back debt) and remittances. I have previously noted the need to learn from Chile on managing our revenue windfall (if we had some, but the lessons are similar!).

The other effect would be to increase bank deposits potentially increasing domestic savings. This would have the likely effect of reducing the need for foreign borrowing at higher rates relaxing the "external constraint". Real interest rates may decline and growth would increase if interest rates are a significant binding constraint on the economy. It strikes me that the real issue regarding interest rates is the absence of financial intermediation in rural areas. The challenge is widening banking services to rural areas to allow people to save and invest. This is beginning to happen with increased banking expansions and some element of subsidised credit - see discussions here.

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